| 2014-12-16

Retail & FMCG: Tradition / Contradiction

As forecasted last year, the retail market saw important consolidation movements and (not unexpectedly) some failures as well

SENIOR CONSULTANT, TRANSACTION ADVISORY SERVICES at ERNST & YOUNG SRL

Romania’s attractiveness for different retailers seems to be changing fundamentally and (possibly also as a result of different regional strategies) has already resulted in some trends that seem to shape the near future:

a) Once the king, cash & carry is now just holding on, resisting under the pressure of aggressive modern retail models and suffering from the significant decrease in the number of their traditional clients: the corner-shops and the small kiosk or neighborhood food-stores. Their survival means increased focus and attention on Horeca and individuals, having already started a refurbishment process of the old-style stores, the new format appealing to the new target markets;

b) Discounters continue to grow aggressively, while super and hypermarkets do not give signs to significantly slow down their new openings rhythm; highly sensitive to price, the customers stimulate the expansion, as the crisis and still low disposable income favor these formats;

c) Finally, more recently, convenience / proximity stores are on the rise, especially in Bucharest. Whilst the latter now benefit from more accessible location prices, making continued openings possible, the former are bringing fierce competition to the prime retail spaces available outside Bucharest, as retailers keep moving to increasingly smaller urban centers. As in the past, the Romaniacapital takes the lead, showing what’s in plan for the upcoming years in “the province”. The challenge remains very much the same, what seems to change is the geography and demography.

On the manufacturing / processing front, this growth in retail seems not to be favoring the local producers. Lacking the financial resources to firmly defend market shares and stubbornly refusing to cooperate with competitors, Romanian FMCG entrepreneurs surrender (or succumb) sooner or later to the power of the multinationals, much better trained, focused and resourceful. There are still a few success stories, most of them, though, are increasingly falling into a “safety trap”. This safety trap is their relationship with the modern retailers: in exchange for the visibility of their (once) powerful local brands, and decent payment terms, their operating margins are crushed.

The high indebtedness levels that result, and the need to generate cash-flow, make private labeling production look much more appealing and all together, this results in the transfer of decision power to outside the companies. The most important brands may still be local, using a marketing strategy to reflect that, but the products themselves are increasingly standardized, so that the volumes create competitive prices. In many industries and especially in the food processing, the majority of the local players that haven’t disappeared yet are either caught in this trap or - if they have managed to come afloat through different, niche type, market channels - they make the news regularly as a result of quality concerns, insolvency proceedings or tax scandals.

This may be the cost of “tradition” in a contradictory market…

In the five years since the beginning of the crisis, i.e., from 2008 to 2013, the number of modern retail outlets in Romania went from 410 to 1,252, a threefold growth that finds no justification in the underlying macro-economics of the country. Stagnant GDP, decreasing population and very small (if any) increases in disposable income actually led to a massive relocation of foreign resources to Romania, where they are now well prepared to reap the benefits of the cycle change expected from 2016.

In fact, while this year and the next (2015) are not expected to bring very positive news on the economic front (2014 may even see a marginal decline in GDP), the cycle is forecasted to return to positive grounds from 2016 and on an accelerated mode.

For the Retail and FMCG players, however, there is still plenty of room and work to do until then. Firstly, Romania’s approx. 43% very low income and rural population still represents a growth potential for the distant future, which justifies continued presence and investment. Secondly, economic growth will result in the increase of disposable income, especially in the urban areas, this additional income allowing and calling for additional developments of the modern retail. Last, but not least, benefiting from a generally well educated urban population who is attentive to the latest trends and developments in the western cultures and economies, we may expect that both producers and retailers will have to adapt and evolve to adequately service their targeted customers.

In a nutshell, we may expect the following drivers affecting retailers and manufacturers in the upcoming years:

a) New retail formats gain significance as a consequence of the new wave of healthy eating consciousness, influencing the new commerce fundamentals based on proximity, convenience, freshness, healthy and less price-sensitive products. This offers important opportunities to both producers (if backed by adequate marketing capabilities), retailers (who we expect to focus on smaller spaces, closer to their targeted customers, possibly mostly accessible through online platforms catering for home/office delivery) and all the inter-connected and inter-dependent services (all supply chain, logistics and payment/collection services);

b) To the peripheries, larger and less sophisticated retail spaces will more or less operate as those now existing in the centers, servicing less demanding customers who are also more price sensitive. These are essential to provide to both manufacturers and retailers the sales volumes that amortize the fixed costs incurred with the previously mentioned new retail formats.